Three essays in corporate finance
This dissertation contains three chapters. In the first chapter, we empirically examine how diversification influences the relation between corporate governance and capital structure. We find better corporate governance in focused firms increases leverage, while better corporate governance in diversified firms decreases leverage. Further, the negative relation between leverage and corporate governance in diversified firms is stronger the larger is the diversification discount. Our results are robust when we correct for selection bias, account for the joint endogeneity of leverage, diversification, and governance using a system GMM estimator, and conduct a natural experiment focusing on exogenous shocks to corporate governance. The evidence suggests that the conflict in the literature about the relation between managerial entrenchment and financial leverage is because earlier studies do not condition on the diversification status of firms. Entrenched managers in focused firms eschew leverage, whereas entrenched managers in diversified firms take advantage of their better access to debt finance and use more financial leverage.The literature finds empirical evidence that the human capital costs is a crucial factor for the capital structure decision. To further address the importance of the human capital costs on the corporate policies. In the second chapter, we study the relation between a firm’s human capital costs and investment policy. We argue and show in the model that employees demand higher pay to compensate for the additional unemployment risk borne by a firm’s investment riskiness. Empirically, we find a significantly positive relation between investment riskiness and average employee pay, and the effect is more pronounced for employees in non-technology firms. We further investigate four channels by which investment riskiness influences human capital costs: corporate diversification, R&D expenditures, advertising expenditures, and total value of acquisitions. Consistently, we find that the average employee compensation is significantly lower in more diversified firms, and in firms that invest less in R&D, advertisement, and acquisition activity. Lastly, we test the feedback effect of human capital costs on investment policy. The findings suggest that labor intensive firms, on average, are more diversified firms, and invest less in R&D, advertisement, and acquisition activity. Our results are robust when we account for the joint endogeneity of investment riskiness, employee pay and leverage using a system GMM estimator, and conduct a natural experiment focusing on exogenous shocks to outside employment opportunities in manufacturing industries.In the third chapter, I investigate the influence of bank mergers on lending relationship. In a large sample of US bank mergers, I track borrowers of acquirer and target banks from pre-merger to post-merger and examine how the merger affects loan spreads, credit availability and other non-price loan terms. Relationship borrowers, on average, enjoy lower interest rates and more favorable non-price loan terms compared to non-relationship borrowers. However, these benefits are significantly reduced post-merger. Specifically, compared to non-relationship borrowers, the merged bank charges relationship borrowers higher loan spreads and reduces the loan amount post-merger. The effect is more pronounced in mergers when a large bank acquires a small target. Moreover, the results are different across the borrower of acquiring bank and target bank. Although relationship borrowers of the target bank are more negatively affected compared to other relationship borrowers in terms of higher loan spreads, we find that they benefit from less restrictive loan contract and larger loan availability after the bank merger.